Monday, October 06, 2008

10 Years of SPY Dollar-Cost Averaging

For those who enjoy seeing historical market wisdom blown all to heck, I present to you the following chart:

10 Years of Monthly Dollar-Cost Averaging into SPY

What's that show? Well, if you had made monthly investments of $1,000 into an S&P 500 exchange-traded fund (SPY, in this case) beginning in October of 1998, your 10 years of investment discipline would now be rewarded by ... oh, a loss of $5,188. This includes dividends being reinvested, but does not include any transaction fees. So, in the real world, actual losses would be worse. (All this assumes my spreadsheet math is correct, of course. I make no guarantees!)

As of early October 2008, your investment's cost basis would be $132,121. Its value in the marketplace, however, would be only $126,933. That's a loss of $5,188, or 3.93 percent.

Making this particularly painful would be the fact that as recently as October of 2007, your account showed an unrealized gain of over $34,400.


Never fear, though. Dave Ramsey assures us that "good growth-stock mutual funds" will return, on average, ten or twelve percent per year. (Never mind the fact that the majority of mutual funds actually lag the performance of the S&P 500 over any given period of time.)

Stuff like this is precisely why financial gurus' relentless devotion to mutual-funds as sources of "double-digit annual returns" drives me nuts.


— Posted by Michael @ 8:04 AM


This would be bad news if you started investing for retirement 10 years ago at age 55. But I, at 30 years old, have 30 or 35 years left to save. I don't think it's fair to grab a 10-year snapshot of one particular fund and say that personal finance gurus' advice to invest in mutual funds for a good return is disingenuous. Yes, the market sucks at the moment, but I have the confidence to keep investing now while the market is down because I believe it will benefit me in the long run.

I think if you looked at any fund over any particular time period you would find that there were some very good times and some very bad times. I don't know what the history of SPY is, but if you were able to look at it from, say, 1990 to 2000, I have a feeling you'd have a completely different story.


The only other wrinkle I can think of (which might make it look worse), is that you might periodically increase your contributions over time. So year it's $1,000/month, next year it's $1,050/month and etc.

Can you run your spreadsheet again with a simple, add $50 a year and see what that chart looks like? I would be curious to know. I think a if(mod(row(a1), 12)=0, 50, 0) should do the trick...


...but if you were able to look at it from, say, 1990 to 2000, I have a feeling you'd have a completely different story.

Yup -- you'd have the returns generated by a full-on market bubble. Which, conveniently, all the "double-digit mutual-fund returns" rely on to hit the marks they want. Hard to get new investors to buy in (which the system relies upon) when you tell them that the reward for holding a broad-based index for ten years might be ... oh, a stiff loss.

My assertion is that expecting double-digit returns from stocks as an "average" is ridiculous when said returns rely on market bubbles just to make the numbers pan out.


I too cringe when I hear Ramsey make that ridiculous statement about earning 10-12% in a "good growth stock mutual fund." Suze Orman is another one. She doesn't even follow her own advice. On the other hand, with a 10 year investment horizon, I intend to stay in the market with sectorized index funds because this is no time to pay the extra cost of managed funds.


Your numbers are disingenuous. Ten years of investing $1000 a month has a "true" cost to an investor of $120 000. In your example, they're still up -- far from 10% a year, but still up.


I guess I can see your point if people assumed that they would earn returns of double digit interest every single year. However, I think most are smart enough to know that that is not the case. Some years it's really good, some years it's really bad, and most of the time it's "meh." That's why it's called an "average."

Here's a question, for curiosity's sake: Say I'm looking for a simple mutual fund to invest my money in. If I look at the Vanguard 500 Index fund and it tells me it has earned an "average" annual return of 10.96% since its inception in 1976, what should I think?


Would you mind sharing the spreadsheet that you used?

Anonymous Anonymous
, at 4:37 PM, October 06, 2008  

Ten years of investing $1000 a month has a "true" cost to an investor of $120,000.

What's this "true" cost stuff? You can decide not to include dividends in your cost basis if you want to make yourself feel better about the investment. But the IRS considers dividends to be part of your cost basis, so I do the same.

Just because the stock or fund paid you the money, and you reinvested it rather than spending it elsewhere ... that doesn't mean those dividends aren't a "cost" to you. You could've done something else with the money, but you elected not to do so. It's money that you earned, then invested, and then either lost or grew. Just like money from your job.

Mental accounting of this sort (pretending that money paid from one source is somehow different than money paid from another) is discussed nicely in Why Smart People Make Big Money Mistakes.


If I look at the Vanguard 500 Index fund and it tells me it has earned an "average" annual return of 10.96% since its inception in 1976, what should I think?

Hmmm ... you should think about how those returns were affected by the inflating of the largest stock, home, and overall debt bubbles of all time.

And also consider how likely it is for the deflating of such conditions to positively affect stock returns in the future. :)

And for those who care, my spreadsheet is here.

If you can see where my math is erroneous, please let me know! (It wouldn't be the first time.)

The idea for this post came from a commenter on another board I read and his calculations of the returns of the S&P 500 over the last ten years were far worse than mine.


So where are you investing your money, if not in mutual funds? I don't want to give my money to managers, as they don't beat or even often meet the market, especially with their fees added?

Anonymous Anonymous
, at 1:33 PM, October 15, 2008  


It's not that I don't do mutual funds -- in my 401k, I have no choice for anything else. However, I'm not a guy who's "always in" the market. I've been out since January, and will move back into funds when my indicators tell me to do so.

In other words, I'm not a buy-and-hold guy ... whether it's individual stocks, mutual funds, or whatever. Well, I do hold cash. Cash is good.

Unless we get hyperinflation at some point, that is.

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